The Future of Foreign Investment Review in Canada

Canada’s Liberal government appears to be adopting a more open approach to foreign investment reviews than its predecessor.

The Investment Canada Act provides for two types of review: “net benefit” reviews for foreign investment transactions that exceed certain financial thresholds and discretionary “national security” reviews that can be invoked in virtually any situation. Under the Stephen Harper-led Conservatives, both types of review were common and foreign investors were at risk of a high level of government scrutiny. An unprecedented number of deals were blocked, restructured or subject to substantial undertaking commitments.

There is good reason to believe that an about-face is underway, as the Liberal government opts to raise review thresholds significantly, re-examine previously blocked investments, relax its approach to reviews of cultural businesses and provide much-welcomed guidance on the government’s approach to national security reviews. All this suggests that a more open attitude toward foreign investment and a willingness to be transparent about the way in which reviews are carried out may be the defining traits of Trudeau-era foreign investment review.

Getting Deals Through Conservative Reviews

The Conservative government had a centralized decision-making process that showed a sensitivity to popular opinion and particular concern about investors from China and certain other countries. Numerous types of transactions were at high risk. As outlined below, parties involved in potentially sensitive transactions used a variety of strategies—often with material commercial implications—to increase their chances of net benefit approval.

High-risk investments under the Harper Administration typically involved high-profile national or provincial “champion” targets (such as BlackBerry, TMX Group, Viterra and Potash Corporation), investors that were state-owned and/or from Russia or China (such as CNOOC), and/or investments in sensitive industries (such as telecommunications and financial services). One area under notably less scrutiny under the Conservatives were investments in the cultural sector, such as book publishing and distribution. This represented a departure from the approach of prior Liberal governments, which had allowed industrial investments but tended to take a harder line in preserving cultural businesses.

Foreign Investment Strategies Under the Previous Government

Shifting risk to foreign buyers: risk allocation became more important in merger agreements, with vendors or targets seeking to shift regulatory risk to foreign buyers. Common tools to shift that burden included “hell or high water” covenants that required buyers to take all measures necessary to secure approvals, and reverse break fees that required buyers to pay vendors or targets in the event of non-approval.

Structuring to minimize concerns, such as Glencore did when it structured its acquisition of Viterra to include “side-car” agreements to divest some Viterra units to the Canadian companies Agrium and Richardson International.

Adopting domestic undertaking commitments: merger parties would also agree to robust undertaking commitments such as agreeing to maintain a Canadian head office and Canadian employment levels. CNOOC’s decision to list on the TSX when it acquired Nexen is an example of this sort of commitment—an action that would not likely have been done but for the belief that it was necessary to secure Investment Canada Act approval.

Carrying out public affairs initiatives: investors also adopted proactive government-relations and public-relations strategies in an effort to minimize any potential adverse reaction, and manage it if it arose.

Trudeau’s Liberals Redraw Boundaries of Transparency

The present government seems more open to foreign investment than its predecessor and at the margins willing to accept more risk, erring on the side of allowing investments.

Prime Minister Trudeau has said he is “open to global investment” as long as it “respects and defends Canadian interests.” In particular contrast to the previous government, the Liberals have also made it clear that they want to “reset” their relationship with China. Recent commitments to raise review thresholds and clarify and make transparent the government’s review process—as well as the reassessment of an investment blocked under Harper—are giving teeth to the general position of openness the Trudeau government has expressed.

“Net Benefit” Reviews Will be Infrequent.

The government announced late last year that it will increase the net benefit review threshold faster than expected, from the current $600 million in enterprise value to $1 billion, in 2017 rather than in 2019 as planned by the Conservatives. Moreover, under the Canada-EU free trade agreement, the review threshold for investments from EU investors will increase to $1.5 billion. Because trade obligations require Canada to use the same threshold ‎for investors from every country with which Canada has a free trade agreement, investors from the US, Mexico and certain other countries will also be subject to a $1.5 billion threshold. These effective doubling of the threshold for most investors is expected to cut the number of net-benefit-reviewable transactions in half, if not more.

Another Look at O-Net

By Cabinet order under the Conservative government, O-Net, a Hong Kong-based investor, was required to divest itself of a Canadian business. In an unexpected turn, the Federal Court of Canada has recently set aside this Cabinet order to address national security concerns remitting the investment back to the Minister of Innovation, Science and Economic Development to undertake a fresh review of this investment. Although the Minister may reject the investment a second time, no matter what the outcome, the case appears to indicate an acceptance by the government that investors ought to have more transparency in national security reviews.

New National Security Review Guidelines

The release in December of national security review guidelines is another welcome development, one which has been called for since the Investment Canada Act was amended in 2009 to provide for such reviews.

In national security reviews to date, a challenge faced by both the government and foreign investors has been the need to understand the government’s potential concerns in order to address them in a meaningful way, while at the same time preserving the integrity of the national security review process. This can be difficult where the information that the government possesses is confidential, and until now, the government has erred on the side of non-disclosure—resulting in an opaque review process. The release of these new guidelines shows that the government has recognised that there can and should be some degree of openness.

While the number of reviews is unlikely to change under the Liberals, this heightened transparency should be beneficial for both foreign investors and Canadian businesses, both of whom will be better able to assess risk up front and enter into transactions with a clearer sense of the potential outcome. There may also be an increased willingness on the part of officials to discuss concerns openly with investors and to approve investments conditionally based on nuanced assessments of risk.

Cultural Reviews will Often be Expedited.

While a traditional Liberal focus on preserving cultural businesses could resurface under Minister of Heritage Mélanie Joly, early indications suggest a pragmatic approach. The Liberals have introduced a long-overdue streamlined process for the review of foreign investments, where the cultural component of the target business is of negligible importance. Although such investments are still subject to review, the process will typically be quick and approval unconditional.

What’s Next?

With higher thresholds for review and the indication of more procedural transparency, we have an initial sense of how the Liberals may formulate their foreign investment policy. In sum: fewer net benefit reviews, meaning the Investment Canada Act process should start to focus more exclusively on national security, and with the possibility that national security reviews will be somewhat more transparent that in the past. That said, the real test of the government’s commitment to this approach will likely come with the first controversial, politically challenging transaction, such as the acquisition of a Canadian national champion by a Chinese SOE. For now, however, Trudeau’s Liberals appear poised to provide foreign inbound investment to Canada with a more open and transparent future.